BUSINESS ACCOUNTING

U23348/U20431/U21076

LECTURE 1Introduction to Business Accounting, cash budgets

At the end of this lecture, you should be able to:

• Explain the purpose of accounting• Discuss why non-accountants need to understand accounting• Understand the basic terminology of business transactions• Prepare a simple cash budget• Understand why a cash budget is important

INTRODUCTION

• Accounting is about the information needed to run a business or organisation. • Accountants consider what information is required and then

communicate it in a meaningful way to users.• Users may be from inside or outside the business.• Managers need to make decisions based on accounting

information – this must be reliable and sensible.

KEY QUESTION - How is the business doing?

EXAMPLE – SMART SPORTS

• Sam Smart wants to set up a business as a clothing supplier of team sports kits.• He is concerned that he does not understand the accounting aspect of

the business and wants to learn the basics of accounting, as the business owner.

What key decisions will Sam need to make, what accounting information will he need?Cash to start up?Sales forecasts?Costs – any profit (reward for risk)?

EXAMPLE – SMART SPORTS

Who else might need accounting information about Sam’s business, and why?

BankSuppliers of goods and servicesLenders – if not the bank?Investors – a business partner, other owners?

THE CASH BUDGET

• Sets out all cash receipts and payments that a business expects to make over a period of time.• Will relate to Sam’s business transactions and not his personal

expenses.• Has Sam got enough cash to start his business?• He has to prepare a cash budget to find out.• This is a good starting point for a new business.

BASIC PRINCIPLES and TERMS

• Entity concept - business transactions should be recorded separately from the transactions of the owner – even if the business is not a separate legal entity.• Money measurement concept - to be able to record a business

transaction, there must be a monetary value attached to it.• Capital – amount that the owner invests in a business.• Drawings – amounts taken out of a business for the owner’s

personal use.

IMPORTANT PARTS OF THE CASH BUDGETRelevant to most businesses!

• Sales are the income earned from selling goods or services. • Purchases are the costs incurred by the business or organisation

in buying the goods (or materials or parts) that it plans to sell to its customers. There may be a manufacturing or conversion cost.• Expenses are costs incurred by the business in order to enable it

to operate.

EXAMPLE – SMART SPORTS CASH BUDGET

• Sam plans to invest his savings of £10,000 and to use his garage initially as his office and to store his purchases. He has estimated his spending.• Prepare the cash budget for Sam’s first three months of trading

from January to March 2015, to help Sam.

Sam’s CAPITAL is £10,000

EXAMPLE – SMART SPORTS CASH BUDGET

Jan 2015 Feb 2015 Mar 2015 TOTAL

RECEIPTS:

Capital 10,000 - - 10,000

Sales 6,000 2,000 3,000 11,000Total receipts 16,000 2,000 3,000 21,000

Sales to customers must be estimated – can be

difficult

EXAMPLE – SMART SPORTS CASH BUDGET

Jan 2015 Feb 2015 Mar 2015 TOTALPAYMENTS:Printing machine (2,900) - - (2,900)Suppliers (4,200) (1,200) (1,650) (7,050)Delivery costs (75) (75) (75) (225)Telephone costs - - (375) (375)Fees & expenses (525) (525) (525) (1,575)Drawings – Sam (600) (600) (600) (1,800)Total payments (8,300) (2,400) (3,225) (13,925)

Sam’s capital helps to buy a printing machine and goods from suppliers

EXAMPLE – SUMMARY CASH BUDGET

Jan 2015 Feb 2015 Mar 2015 TOTAL

Total receipts 16,000 2,000 3,000 21,000

Total payments (8,300) (2,400) (3,225) (13,925)

Balance brought forward 0 7,700 7,300 0

Balance carried forward 7,700 7,300 7,075 7,075

Cash balance carried forward = Balance brought forward + Receipts

– Payments

Outgoings are shown in brackets

TIMING OF RECEIPTS and PAYMENTS(important for the cash budget)

• Cash sales are made when cash is received at the same time as goods or services are delivered to customers. • Credit sales are made when payment is received after goods or

services have been delivered to customers. • Cash purchases are goods or services paid for at the same time as

they are received from suppliers.• Credit purchases are goods or services which have been received

from suppliers but payment for them is made at a date after delivery.

CREDIT TRANSACTIONS ARE NORMAL FOR MANY BUSINESSES

EXAMPLE 2 – SMART SPORTS CASH BUDGET

• Sam sets about planning the cash receipts and payments for the next three months, taking into account the different timings of the sales and purchases. • Sam agrees that some customers will pay for their goods on

credit.• To save printing costs he will buy and pay for a new

machine for £5,500 in May. Some other costs will increase.• Prepare the cash budget for April to June 2015 – how does

this change Sam’s business position – his cash flow?

EXAMPLE 2 – SMART SPORTS CASH BUDGET

Apr 2015 May 2015 Jun 2015 TOTAL

RECEIPTS:

Cash customers - - 5,000 5,000

Credit customers - 2,400 4,000 6,400Total receipts 0 2,400 9,000 11,400

Timing of cash receipts makes a big difference

Credit customers pay for goods after

receiving them

EXAMPLE 2 – SMART SPORTS CASH BUDGETApr 2015 May 2015 Jun 2015 TOTAL

PAYMENTS:Printing machine - (5,500) - (5,500)Suppliers (1,500) (2,000) (4,000) (7,500)Delivery costs (75) (100) (100) (275)Telephone costs - - (375) (375)Fees & expenses (525) (625) (625) (1,775)Drawings (600) (600) (600) (1,800)Total payments (2,700) (8,825) (5,700) (17,225)

Cash payments now vary much more each month – especially when large

items are purchased!

EXAMPLE 2 – SUMMARY CASH BUDGET

Apr 2015 May 2015 Jun 2015 TOTAL

Total receipts - 2,400 9,000 11,400

Total payments (2,700) (8,825) (5,700) (17,225)

Balance brought forward 7,075 4,375 (2,050) 7,075

Balance carried forward 4,375 (2,050) 1,250 1,250

Sam will temporarily run out of cash in May 2015 (buying

machine?)

CASH and PROFITS

• CASH is very important, businesses must have this to survive.• Sam needs to arrange an OVERDRAFT with his bank for the month

of May – a temporary borrowing.• The BANK will need information about Sam’s business before

agreeing to this.• Sam and the Bank need to know if his business is PROFITABLE.• Having enough cash AND making enough profit are both important!

Calculating profits will be covered in the next lecture.

** SUMMARY OF KEY POINTS **

• Every business and organisation needs accounting information to plan, control, and make decisions. Different users will require different information. • All managers should appreciate the fundamentals of

accounting, as they will need to use and interpret the information.• Cash budgets forecast all cash receipts and payments for a

business or organisation.• Cash budgets helps businesses to identify cash surpluses to use

or invest AND shortfalls which must be covered.• Businesses need to make a profit to survive but also have

enough cash.